2023-06-27 13:04:32
SINTRA, Portugal (Archyde.com) – Senior European Central Bank officials are meeting in Finland this week to work on a new framework for steering short-term borrowing costs, five sources told Archyde.com.
The Market Operations Committee, made up of staff from the ECB and central banks from the 20 eurozone member countries, is meeting in Helsinki just as major central bankers gather for the annual Sintra Forum, in Portugal.
Committee members will reflect on the ECB’s strategy in an environment of high inflation and high interest rates as efforts to rein in price growth are hampered by more than 4 trillion euros of excess liquidity circulating in the banking system.
An ECB spokesman declined to comment.
Among other things, the committee will work on how to remunerate banks’ required reserves and excess reserves, the sources said. Reserve requirements are currently remunerated at the 3.5% deposit rate, but some officials believe that rate should be set at zero, as it has been for most of the past decade.
RATE CORRIDOR
Staff will also consider options for adjusting the corridor between the ECB’s three key interest rates, although officials have so far deemed any move premature, the sources said.
The Frankfurt institution currently pays banks 3.5% interest on their deposits. The refinancing rate – which sets the cost at which banks can borrow liquidity from the central bank for a week – is 4% and the marginal lending rate – the rate banks pay when borrowing for 24 hours – is at 4.25%.
Possibilities to address this asymmetry include increasing the deposit rate to create a narrower corridor or changing the overnight rate to create a wider corridor.
But both options are problematic, the sources say. A corridor that is too wide would penalize borrowing banks compared to those with excess liquidity to place with the ECB.
Some advocate setting the corridor at the last ECB rate hike in the cycle, changing only the deposit rate, but officials are unlikely to be convinced then that it is will act as the ultimate hike, the sources added. A decision on the corridor might be on the agenda following the summer holidays, they added.
REDUCE THE BALANCE SHEET
Another key topic is the functioning of the balance sheet, which might take years to shrink to any significant level as banks regularly need to borrow cash from the central bank, the sources said.
A document presented this week at the Sintra forum suggests that the ECB might reduce excess liquidity from 4.1 trillion euros to between 521 and 1.4 trillion euros. The institution has already reduced its balance sheet by more than 1,000 billion euros compared to the peak reached last year.
The big question is whether it is the central bank’s injections of liquidity or the banks’ real demand at auctions that should determine the availability of cash and, therefore, the short-term rate.
Isabel Schnabel, a member of the ECB’s executive board and head of market operations, appeared to advocate earlier this year a system used by the Bank of England, which allows banks to determine for themselves the amount of liquidity they wish to hold.
This model would allow the ECB to add liquidity as needed, instead of maintaining a permanently surplus balance sheet.
(French version Laetitia Volga, edited by Kate Entringer)
by Francesco Canepa and Balazs Koranyi
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